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NEW YORK: U.S. Treasury two-year yields rose on Wednesday to their highest in more than three years, ahead of a widely anticipated half a percentage point tightening by the Federal Reserve later in the session to control soaring inflation.

Since the beginning of the year, the two-year yield, the most sensitive to the Fed’s interest rate outlook, has gained more than 200 basis points.

It rose as high as 2.844% on Wednesday, the highest since November 2018 and was last up 4 basis points at 2.8093%, not far from the psychologically important 3% level.

The last time the U.S. two-year yield touched 3% was in June 2008.

Aside from raising interest rates, the Fed is also expected to announce the start of the reduction of its $9 trillion balance sheet by as much as $95 billion per month.

“If the Fed follows expectations this afternoon, the potential for volatility and illiquidity this afternoon is nearly as big as it would be for a surprise,” Jim Vogel, senior rates strategist at FHN Financial in Memphis, Tennessee, wrote in a research note.

US Treasury yields tumble as global growth worries surface

“Flattening will accelerate if (Fed Chair Jerome) Powell does not turn aside questions about a 75 basis-point hike at some point in coming meetings. The other ‘surprise’ the rest of the week is whether bearish investors follow any less-than-100% hawkish guidance from the press conference, perhaps via a discussion of risks to the U.S. economy,” Vogel added.

The benchmark 10-year yield topped 3% for a third consecutive day, hitting 3.011%, the highest since December 2018. The yield was last up 4 basis points at 2.995%.

As the two-year yield accelerated, the yield curve flattened, with the gap between two-year and 10-year year notes narrowing to 17.5 basis points.

“In terms of their guidance, it will be interesting to see whether we get a sense of urgency in getting rates back to a neutral level,” said Chris Scicluna, head of economic research at Daiwa Capital Markets in London.

“Also, we’ll see if the Fed is mindful of downside risks to growth and whether they could inadvertently push the economy into recession.”

U.S. data on private-sector payrolls and the services sector were released as well on Wednesday, but the Treasury market showed little reaction as markets prepared for Fed action later.

The ADP National Employment Report showed a broad slowdown in hiring, with job gains in the leisure and hospitality industry also the smallest since late 2020.

U.S. services industry growth also unexpectedly slowed in April, data showed, with employment contracting for the second time this year, while a measure of input prices raced to a record high.

Also on Wednesday, the U.S. Treasury announced further reduction in auction sizes, for its coupon issuance, with the largest cuts coming in the seven-year and 20-year maturities.

The Treasury said it expects to cut the size of 2-, 3- and 5-year note auctions by $1 billion each per month over the coming quarter, while 7-year auctions will be cut by $2 billion per month in the same period.

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